E*Trade, TD Ameritrade shares plummet on revenue fears

NEW YORK (Reuters) - Investors pummeled E*Trade Financial Corp and TD Ameritrade Holding Corp shares on Thursday on concerns a core source of their revenue could be eliminated by regulators.

E*Trade fell $1.54, or 6.5 percent, to close at $22.17 after losing more than 7 percent earlier. TD Ameritrade dropped $1.80, or 5.3 percent, to $32.

Both companies rely heavily on payments from professional trading firms, known as market makers, in exchange for sending them hundreds of thousands of stock orders from retail customers every day. Brokerage firms have scores of options, including exchanges, for executing such trades.

Hedge funds such as Citadel LLC and large banks such as Citigroup Inc and UBS AG are among the firms that have large market-making affiliates.

The practice, known as payment-for-order flow, has drawn questions previously about whether the discount brokers are performing the obligation to get the best order-execution for their customers or are simply looking to fatten their bottom lines.

E*Trade was founded in 1982 with the specific goal of getting paid by market-makers as well as clients for orders it could generate.

Regulators recently have expressed concern about market structure issues relating to trading, and a controversial new book by Michael Lewis released on Monday about high-frequency traders mentions payment-for-order-flow issues.

On Wednesday, a member of the U.S. Securities and Exchange Commission said the regulator should consider a temporary ban on a similar rebate practice known as "maker-taker" that is used by regulated stock exchanges to attract orders.

"Changes to the maker-taker system would negatively affect the payment for order flow the brokers receiver," David Chiaverini, an analyst of discount brokers at BMO Capital Markets wrote to his clients. He estimated that 8 percent of TD Ameritrade's revenue, 4 percent of E*Trade's and 3 percent of Charles Schwab Corp's comes from payments for their customers' orders.

Schwab, the largest competitor in the discount brokerage market as measured by capitalization, is not as vulnerable, said Richard Repetto, an analyst at Sandler O'Neill and Partners, because it relies less on trading for its revenue than do E*Trade and TD Ameritrade. Schwab shares were 53 cents, or 1.9 percent, down at $27.37 at the close.

A Schwab spokesman said the company's revenue from payment-for-order-flow is "not material," quantifying it as "in the tens of millions, not the hundreds of millions."

A TD Ameritrade spokeswoman said the company does not comment on its stock price as a matter of policy. Payment for order flow makes a "meaningful contribution" to the company, but is not broken out in earnings reports as a separate line item, she added.

An E*Trade spokesman did not respond to requests for comment.

(Reporting by Jed Horowitz; Additional reporting by John McCrank; Editing by Richard Chang and Andre Grenon)